Phoenix: relocations and population growth keep real estate hot in the Valley of the Sun

Earlier this year, Dial Corp., one of Phoenix's largest companies, split into two publicly traded companies, and the fall-out from that corporate change bodes ill for the city as one of the surviving companies, Dial, considered relocating out of the state.

Even the speculation about what Dial would eventually do was a big shock since over the past few years the words "corporate relocation" usually meant another company was moving into Phoenix. For the year ending June 30, the Greater Phoenix Economic Council reported 28 companies relocated to, or expanded in, the Phoenix metropolitan area creating a record 8,246 new jobs, spending $1.66 billion in new capital investment and adding 2.6 million sq. ft. of office and industrial space. As of August, GPEC was in discussion with another 190 companies considering a move to the Phoenix metro area as well.

Some of the companies like Schwab, which moved a number of divisions to Phoenix from earthquake-prone San Francisco, have come because it offers a stable geology, says Keith Watkins, a senior director of corporate relocations at GPEC, but most come because of the population growth and labor market.

While the Dial Corp. change may result in the loss of one of the state's bigger companies, it should be noted that an earlier Dial spinoff, the Finova Corp., has blossomed as an independent company and will be moving out of numerous locations in the Valley of the Sun into a new high rise being built by Opus Southwest Corp. along Phoenix's pricey Camel-back Corridor.

Office developers ready to build

In August, Opus Southwest broke ground on the Camelback Esplanade III, a 212,000 sq. ft., 10-story office tower, which was 50% preleased at ground-breaking. Finova will take 225,000 sq. ft. out of a 300,000 sq. ft. second stage. The Camelback Corridor project came on the heels of Opus Southwest and Globe Corp.'s development of the Scottsdale Spectrum, a $45 million, 250,000 sq. ft. office complex to be built in two phases in Scottsdale. The Spectrum, the first speculative office complex to break ground in Phoenix since 1991, has already achieved 85% lease up.

"Developers are ready to build in Phoenix again," says Thomas Roberts, president of Opus Southwest. "Absorption is strong, vacancy rates came down, rental rates are rising steadily, and there hasn't been new construction for six years."

"The underlying economy of Phoenix is so diversified and growing in every sector that demand is growing," agrees Jeffrey Covill, president of Keystone Capital Group in Phoenix. "There is a pending under-supply in office, multifamily and back-office that will lead to additional new construction in the area."

Not since the beginning of the 1990s has there been any speculative office construction, says Larry Downey, a senior vice president with Grubb & Ellis in Phoenix. "Now that all the talk is over, the building has begun." Besides Opus Southwest's projects, Westar Development is building 113,500 sq. ft. in Phoenix, and 1.7 million sq. ft. of space is soon to start or on the drawing boards.

Investors have also invaded the city, buying buildings along the Camelback Corridor, Scottsdale and the Renaissance Two tower in downtown Phoenix. "There have been a number of acquisitions of Class-a office in the central business district and suburban markets in the past 12 to 24 months. The acquisition cap rates or `going-in' cap rates were in the range of 6% to 7%," says John Smeck, a senior vice president with Phoenix-based Robert C. Wilson Co., an originator of mortgage loans and an investor in commercial real estate on behalf of institutional lenders.

Over the past few years, the leasing market has been so strong that in 1995 vacancy rates dropped at 1% per quarter. In the first half of this year the vacancy rate continued to drop, but at a slower pace. At mid-year, the vacancy rate for the metropolitan Phoenix market stood at 11.8%, down from over 26% in 1990. "With strong leasing and absorption, we could soon be seeing an extreme shortage of Class-A office space," Downey says.

However, Covill says, "Unrestrained lending and investment capital is not available in the market now and probably will not be. This will lead to fundamentally market-driven construction."

Net absorption for the metro area exceeded 381,000 sq. ft. during the second quarter of 1996. "Many companies are expanding and setting up back-office type of operations. They may be going into industrial parks, but they are converting the product to office space," says Downey. This is especially true of the "call centers," which have been rapidly expanding here.

Industrial creates new space

Office space in industrial parks creates opportunities for companies like Opus Southwest, which not only has taken a liking to Phoenix's office market, but has become very active in industrial development as well. Opus Southwest is currently working on three industrial projects: a 215,000 sq. ft. spec building on the west side that is 60% leased; a 138,000 sq. ft. industrial building that is 50% preleased; and 264,000 sq. ft. of spec space in Tempe that is 55% preleased.

"The industrial market is very strong, and there is quite a bit of competition," says Roberts. "There is much spec building planned, but it should get absorbed."

With more than 3.7 million sq. ft. absorbed in the first two quarters of 1996 and a vacancy rate of 10.87%, the Phoenix industrial market witnessed significant changes that have led to new build-to-suit and speculative buildings.

"Lack of available space and the continued improving economic condition of the Phoenix marketplace are the causes for the new industrial development," says John Wyss, senior vice president of Koll in Phoenix. "Hundreds of new companies, primarily from California and the Midwest, have entered the Valley."

Valleywide, the industrial market will continue to flourish in 1996, and this activity will continue into 1997, predicts Wyss. "The majority of the new buildings that will be available in the near future are of the high-tech and distributior/warehouse variety with possibly one or two manufacturing or industrial office buildings also being built."

In one of the largest industrial building transactions to occur within the past several years, Koll negotiated the $19.5 million sale of 24 industrial buildings located in Tempe and Phoenix to The Shidler Group of San Diego.

Before Phoenix office and industrial markets became strong enough to sustain substantial development, developers stayed active in the Valley of the Sun erecting shopping centers, supermarkets and other forms of retail establishments.

Population growth keeps retail hot

At the end of 1995, the Phoenix metro area boasted 74.9 million sq. ft. of retail space and 295,000 sq. ft. under construction. This followed 1.6 million sq. ft. of retail development the previous year.

By the second quarter of this year, the Phoenix metro area could count 248 neighborhood shopping centers, representing 25 million sq. ft. This year, 10 more neighborhood centers will have been built. However, even with strong retail construction, the market is not overbuilt as absorption in the second quarter of this year reached 704,736 sq. ft., which was even stronger than first quarter's 591,550 sq. ft., reports Koll.

Overall vacancy rate for the metro Phoenix retail market decreased to its lowest level in years during the second quarter posting again even better than the first quarter which sported a then record low of 9.05%.

Most new retail construction has been in neighborhood shopping centers anchored by a supermarket or supermarket-pharmacy combination.

In the early-1990s, power center development spread quickly across Phoenix. Now there are 21 power shopping centers in the metro area with about 6.7 million sq. ft. of space. Development of that market is finally leveling off with only a few more power centers on the drawing boards or in construction, and most of those are being developed by local Vestar Development Co. The company is currently building the 1.1 million sq. ft. Ahwatukee Foothills Towne Center and the last phase of the 300,000 sq. ft. Scottsdale Towne Center. The company has one other power center on the drawing board, the 500,000 sq. ft. Deer Valley Towne Center.

Generally, power centers have had their way, and "I was convinced the Ahwatukee Towne Center was going to be the last power center built in Phoenix until this new Deer Valley center came up," says David Larcher, a vice president with Vestar. "Despite Deer Valley, power center development in Phoenix is pretty complete." The expansion of the office, industrial and retail sectors of the local real estate industry is a reflection of the continued population growth in the Valley of the Sun. About 70,000 people move into the area every year.

Multifamily grows cautiously

The residential market has clearly picked up on this data and responded with a tremendous jump in building permits for single-family and multifamily dwellings. However, due to overbuilding in the late-1980s, multifamily construction has been moderate. "New inventory and new construction is under control, while absorption continues to be strong," says Smeck . "The continued strong growth Phoenix is experiencing creates the need for multifamily housing. Still, we see that market as being in equilibrium where we are absorbing roughly the same number of units that are delivered to the market on an annual basis."

Phoenix currently boasts an inventory of 275,000 multifamily units with a 95.2% occupancy rate. Rental rates for 1996 escalated 3% to 3.5%, says Robert Hutt, a partner with Trammell Crow Residential in Phoenix, which has developed 5,000 apartment units in the Valley and is currently building three more communities with 974 units total.

"There is a lot of building going on. The metro area could see permitting this year for 9,000 new units," Hutt says.

Not everyone who moves to the Valley of the Sun comes looking for a new job - many of the recent transplants are retirees. The Phoenix area has been a preeminent retirement location ever since the Del Webb Corp. opened Sun City in January 1960. Del Webb is still active in retirement living and is currently working on two other metropolitan area developments, Sun City West and Sun City Grand.

"Sun City West really sold more homes than any of our active adult communities in the country last year so it still remains our flagship community and we have no reason to believe the market is softening," says Ken Plonski, Del Webb's spokesperson. Del Webb isn't the only adult community developer in the market, says Plonski, and they all seem to be doing well. In fact, he adds, a number of national residential development companies like Pulte and Continental are looking to build retirement living communities in the Phoenix area.

Retirees have become so important to the Arizona economy that on July 1 the state created an Office for Senior Living.

"This is an indicator that the state is interested in pursing these retirees because they have a fair amount of wealth and in many ways create a lot of jobs in an area," Plonski says.

Tourism keeps hotel market shining

Not everyone who comes to the Valley of the Sun intends to stay. Tourism is one of the state's principal engines.

"The hospitality sector hasn't been this tight before," says Keystone's Covill. "This is due to the lack of new construction and continued growth and desirability of Phoenix as a vacation and business market."

Hotel occupancy for the Phoenix metropolitan area has been stable the past two years in the 77% to 78% range, which is very good, says Robert Rauch, director of development for San Diego-based Crossroads Hospitality, a division of Interstate Hotels which recently acquired the 303-room Fountain Suites Hotel in Phoenix for $28 million. But a better indication of the strength of the hotel market is the average room rate, which jumped 11.3% for the first six months of 1996 as compared to the same period last year. This was the biggest room rate increase in the country.

With good occupancy and rental rates climbing, Phoenix attracted a lot of attention from hotel chains looking to expand. "There is an incredible amount of new supply opening, under construction or in the pipeline for Phoenix," Rauch says. "Some are resorts like the Four Seasons, but most are in the mid-price range. There is an awful lot of new product from Marriott Courtyard, Marriott Residence Inn, Homewood Suites and Hampton Inn."

According to statistics compiled by Warnick & Co. of Phoenix and Smith Travel Research of Hendersonville, Tenn., the number of hotels and rooms in the metro-phoenix area totaled 125 and 18,871 respectively in 1983. By 1998, those numbers increased to 216 hotels and 34,522 rooms.